Among other obstacles, the average millennial has a credit score too low to qualify for a mortgage, says realtor.com's Chief Economist Jonathan Smoke.

Six years after the worst financial crisis in decades, housing and homeownership finally seem poised for recovery.

But will millennials miss out?

In the second quarter of 2014, the U.S. Census Bureau reported that the homeownership rate for Americans under 35 was 35.9 percent, the lowest it’s been since at least 1994.

Moreover, first-time home buyers – half of whom are millennials – currently make up just 28 percent of the market, says Jonathan Smoke, the recently-appointed Chief Economist for realtor.com®. This is well below the 35 to 40 percent share of the market that Smoke says has typically been the norm.

Smoke says millennial home buyers face a variety of obstacles in the current market. He also argues that even though the housing market shows signs of full recovery, its future health depends on the robust participation of the first-time buyers, including millennials.

Smoke: Millennials – that’s everybody ages 21 to 34 – should be in prime household formation mode, and the older end of that cohort should have been entering the homebuying market in large numbers over the last couple of years.

But they’re definitely not doing that; they’re not forming households at a normal pace. They have a weak employment situation, and the opportunities they’ve been given are not the same type of higher-paying opportunities as before.

That’s encouraged them to stay in school and to get graduate degrees when other people would have jumped into the labor market earlier. And because of student debt and the lack of economic opportunities, it’s encouraged them to either move back in with mom and dad or double or triple up with roommates.

When they do form households, they’re more likely to rent than own.

R3.0: Why is that?

Part of it is credit scores. The average millennial credit score is below 620, which is the floor for all of the mortgages that have been written in the past few years.

Today, you can’t qualify for a mortgage unless you have the combination of a down payment, a good or excellent credit score, and your ratios are in balance [i.e., income to housing costs].

“[Millennials] haven’t soured on homeownership, but they’re nervous, worried and apprehensive about their ability to do it.”

But the real problem is affordability.

If you look at where inventories have been growing, it’s away from the lower price points.

The lack of demand means that the most affordable homes have not appreciated like other homes have over the last several years. And because of that, more of the homes that were purchased at the peak of the market are underwater – the people who sit in the most affordable homes are locked into those homes or are not in a situation to improve their situation by trying to sell.

You also have this phenomenon of large investment companies – Blackrock, Colony Capital, Blackstone, and a bevy of others – that are buying foreclosed homes and turning them into rentals.

That’s helped us work off the foreclosure overhang, but it’s part of the problem for millennials.

If you’re an individual home seller and you have to choose between an offer from Blackrock for your list price – no contingencies, all cash, and a closing in two weeks – or an offer from a cute 25-year old couple planning their first child who need to get financing, you’re going to go with the investor. That’s the easy way to go.

R3.0: What are the consequences to the housing market if there aren’t enough first-time buyers?

Smoke: Housing is a complex ecosystem – think of it the way you do climate.

We need the first-time homebuyer segment to exist so that other segments have an outlet to move up by selling their homes.

You also need it for the new construction market, which is still at historically low levels. New construction contributes the most to housing overall and to the economy because you have all the labor going into the construction process; you have the new materials going into the home; and you have the follow-on effect of what people do when they move into a new home: buying furniture, painting, moving, all those things. The economy does best when new construction is going well.

R3.0: What would help solve some of these problems for millennials? For example, if millennials think of themselves as more “mobile,” does the notion of the 30-year fixed-rate mortgage still fit the needs of a more mobile workforce or do we need to come up with other financing vehicles?

Smoke: I think we need to encourage more innovation.

“If you’re trying to encourage ownership, there needs to be innovation that ultimately helps consumers make the best financial decision for them and gives them the most buying power.”

One could argue that finance innovation is what caused the bubble to begin with – meaning the innovations that happened around “no-doc” loans – but I would argue that there wasn’t a whole lot of real innovation. We still largely gravitated around 30-year mortgages.

People who pay attention to making the best economic decisions from a personal economic perspective will tell you that a 30-year-fixed[-rate mortgage] isn’t the best mortgage decision an individual household can make because their tenure normally never breaks even on the fixed 30-year rate. But at the same time, it’s the 30-year amortization – and the government guarantee on these mortgages – that has made housing more affordable.

The innovations that I would like to see are things that keep that amortization and the government backstop but also enables people not to make that stark decision of locking down a rate for 30 years even though there’s no way they’re going to be in that house for seven years, let alone 30 years. But the amortization is absolutely key.

If you’re trying to encourage ownership, there needs to be innovation that ultimately helps consumers make the best financial decision for them and gives them the most buying power.

Millennial homeownership levels are below what they were in 1994, while homeownership rates for older Americans and the U.S. as a whole have stabilized.

R3.0: What should Congress do to help millennials who want to own homes?

Smoke: There has to be direction to the future of the [government-sponsored enterprises (GSEs) Fannie Mae and Freddie Mac]. There needs to be support for the 30-year amortization [provided by 30-year fixed-rate mortgages], and there are great ideas already on the table for a “federal mortgage insurance corporation” like the FDIC to provide a government backstop.

One of the worst things that can be done right now is to eliminate the mortgage interest deduction.

We’ve just been through what happens when the U.S. suffers across-the-board declines in home prices, and if you eliminate the mortgage interest deduction, the only question is how much home prices will fall.

I think there are better ways to change the tax system, and singling it out as a prescription to address budget shortfalls seems to me too much negative risk for the positives that come from that.

R3.0: If the market is this tough, is the desire to own a home softening too?

Smoke: All the surveys show no sign that millennials are souring on homeownership.

I pulled data from comScore covering all real estate traffic on the web, and in July, half of all millennials in the U.S. were looking at real estate, either on websites or on mobile devices. To me, that’s a long-term indicator that they deeply care about housing.

This statistic includes [people looking for] rentals, so some of it’s about trying to get out of the basement. But I would argue it’s also increasingly because rents are going up, and they’re trying to see if there’s an alternative that can work for them. If you look at Washington, D.C., San Jose, San Francisco, or New York, your rent may be going up 10 percent a year.

People have been quick to say, “Well, millennials are young and hip; they’re going to want to rent forever, and they’re going to want to be in dense urban environments.”

At this point in their lives right now, that’s accurate. But if you ask a millennial to think long-term about where they see themselves, it falls into a more traditional pattern. They see themselves in a single family home, in a suburb, focusing on schools as they’re raising children.

At the end of the day, in the U.S. in particular, homeownership is tied to quality of life. Sometimes that’s having a yard, sometimes that’s having pets, sometimes it’s being in the right school district, but there’s something about owning your own space and being responsible for that space that’s absolutely tied to household success and vitality. It’s part of our DNA.

[Millennials] haven’t soured on homeownership, but they’re nervous, worried and apprehensive about their ability to do it. We need to have a housing market that has both the inventory and the financing available for them.